The Mining life cycle - key accounting principles · PwC Course description Accounting for the Mining sector is a specialist area that requires expertise and an understanding of the

London School of Mines

Ben Nutbeam and James Thomson

The Mining life cycle - key

accounting principles

PwC

Course description

Accounting for the Mining sector is a specialist area that requires expertise and an understanding of the industry.

This session is specifically designed for finance professionals with little prior knowledge of mining and will cover the mining life cycle and the respective accounting challenges under IFRS that arise with each plane.


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Caveat

Views expressed in this presentation represent the views of the individual presenter and may not represent the views of PwC.

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Agenda

• Accounting and reporting framework

• Mining life cycle overview

• Key accounting principles


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Accounting & reporting framework – IASB guidance

• International Financial Reporting Standards (IFRS) are principles based and short on industry guidance

• Industry focussed standards include only IFRS 6 (Exploration and Evaluation) and IFRIC 20 (Stripping Costs)

• Applying IFRS is a continual challenge


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Accounting & reporting framework – other frameworks

• Listing Rules and Company Law are applicable

• Mineral resource classification guidance available:- Australasian Joint Ore Reserves Committee Code (JORC)- South African Code (SAMREC)- Canadian Institute classification (CIM, NI 43-101)

• Total taxes paid, payments to governments


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The Mining life cycle


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The mining life cycle...


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1. Exploration & evaluation

2. Development

3. Production

4. Closure and rehabilitation

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Exploration and evaluation (E&E) phase


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IntroductionMeaning of the phase

Exploration costs are incurred to discover mineral resources. Under IFRS 6, exploration commences when the legal rights to explore have been obtained

Key activities include:• researching and analysing historic exploration data• topographical, geological, geochemical & geophysical studies• exploratory drilling, trenching and sampling


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Ex

plo

ratio

n

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Ev

alu

atio

n

Evaluation costs are incurred to assess the technical feasibility and commercial viability of a mineral resource

Key activities include:• assessing volume and grade of deposits• examining and testing extraction methods and processes• surveying transportation and infrastructure requirements• conducting market and finance studies• producing a feasibility study that identifies reserves


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E&E activities Treatment of expenditure

Issue• Exploration and evaluation expenditures are incurred

throughout this phase• Should this expenditure be expensed or capitalised?

Conditions under IFRS 6 “Exploration and evaluation of mineral resources” • Permits an entity to develop an accounting policy for exploration and

evaluation assets• Perform an impairment test• Disclosures that identify and explain the amounts in the entity's financial

statements


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E&E activities – typical policies


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Costs incurred before any right/license/permit is acquired (Expense)

All costs associated with acquisition of right/license/permit (Capitalise)

Exploration expenditures(Expense)

Evaluation expenses(Expense)

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E&E activities – typical policies (cont’d)

Conceptual studies

Conceptual study proven economically viable and adequate support and documentation available

(Capitalise)

Prefeasibility study proves technical viability (Capitalise)

Development expenditure (Capitalise)

Conceptual study not proven economically viable and no adequate support and documentation

available(Expense)

Prefeasibility does not prove technical viability (Expense)


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Exploration & evaluationMineral resources and reserves: concepts


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Exploration Results

Mineral Resources Mineral Reserves

Inferred

Indicated

Measured

Probable

Proved

Increasing level of geo-scientific knowledge

and confidence

Reported as mineable production estimates

Consideration of mining, metallurgical, economic, marketing, legal, environmental, social and governmental factors (the ‘modifying’ factors)

Reported as potentially mineable estimates

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Exploration & evaluationMineral resources and reserves: concepts (cont’d)


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• Categorised based on level of geological confidence

• Form basis for determining Life of Mine (LoM) plans

• UK Listing Rules do not require disclosure

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Example – Reserve disclosure


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Proved Probable Total

Mine name Type of mine Tonnage Grade Tonnage Grade Tonnage Grade

Mt % Mt % Mt %

Jenny U/G 13.6 38.7 220.3 30.9 233.9 31.3

Nick O/P - - 18.5 32.8 18.5 32.8

Seita O/P 24.1 36.9 60.6 32.1 84.7 33.5

Simon O/P 59.2 36.0 83.7 35.9 142.9 36.0

Alex & Alex O/P 145.6 39.3 648.6 33.3 794.2 34.4

Kristal O/P - - 64.4 35.8 64.4 35.8

Gareth O/P - - - - - -

Usman O/P - - - - - -

Total 242.5 38.2 1,096.1 33.1 1,338.6 34.0

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How are reserves and resources reflected in the financial statements?

Pervasive impact on accounts:

• Charge for depreciation and amortisation

• Calculation of stripping adjustments

• Determination of impairment charges

• Expected timing of decommissioning charges


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Impairment under IFRS 6

Alternative impairment-testing regime for recognised exploration and evaluation assets that differs from the requirements set out in IAS 36 Impairment.

Specific IFRS 6 criteria related to internal indicators:

1. The entity’s right to explore has expired

2. No further exploration or evaluation expenditure is planned or budgeted for

3. No commercially viable deposits have been discovered

4. Indications that the carrying amount of expenditure will not be fully recovered


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Development phase


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Accounting post-IFRS 6

• Exit exploration and evaluation (E&E) phases

- IFRS 6 is no longer applicable

• Cut-off between end of E&E and start of development are key

- Technical feasibility and commercial viability achieved

- Usually on completion of bankable feasibility study

- Decision to develop made by the board of directors

• Transfer of E&E asset costs into development costs


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Dev

elop

men

t

Development expenditures are costs incurred to obtain access to proved and probable reserves and to provide facilities for extracting, treating, gathering, transporting and storing the minerals.

Key activities include:• Getting the mine ready for operations• Further technical, environmental, regulatory, socio-economic studies• Construction activities, building infrastructure, developing the pit, building the

underground works• More accurately developing the mine plan• Getting financing for the project


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IAS 16 – Property, plant & equipment

• Post IFRS 6 costs in the development phase are capitalised as PP&E under IAS 16, ‘Property, plant and Equipment.

• IAS 16 PPE states that:

- The cost of an item of PPE shall be recognised as an asset if, and only if:

◦ It is probable that future economic benefits associated with the item will flow to the entity; and

◦ The cost of the item can be measured reliably


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IAS 16 – Property, plant & equipment (cont’d)

• The cost of an item of PPE comprises:

- Its purchase price (including import duties and non-refundable purchase taxes, less trade discounts and rebates)

- Any costs directly attributable to bringing the asset to the location and condition necessary for it to be capable of operating in the manner intended by management;

- All borrowing costs attributable to the acquisition, production or construction of qualifying asset (IAS 23); and

- The initial estimate of the costs of dismantling and removing the item and restoring the site.


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Quiz – Which costs can you capitalise?

Description

Costs of staff training

Costs of testing whether machinery is functioning properly

Depreciation of assets used in mine development

General administrative costs

Pre-production revenue

Interest on borrowings

Capitalise or expense?


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Expense

Expense

Depends

Capitalise

Capitalise

Capitalise

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Production phase

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Pro

du

ction

Day-to-day activities of obtaining a saleable product from mineral reserve on a commercial scale

Key activities include:• Extraction (surface mining or underground mining)• Processing and transportation• Smelting and refining


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Key accounting principlesAreas of focus

• Transition from development to production

• Revenue recognition

• Depreciation

• Impairment

• Deferred stripping costs Let’s look at each of these in more detail !


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Transition from development to production


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Transition from development to productionIndicators and implications

Indicators• Asset ‘available for use’• Criteria include:

- Nominated percentage of designed capacity- Mineral recoveries at or near expected levels- Continuous production or other output

Accounting implications• Development costs can no longer be capitalised• Depreciation of assets begins• Production of inventory and revenue recognition

commences


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Transition from development to productionCapitalisation during production phase

• Capitalisation can continue after production commences

• Examples of costs which are capitalised include:

- Stripping costs where removal of overburden occurs before production in additional pits (surface mining)

- Costs relating to extension of a shaft or major underground excavations (underground mining)


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Revenue recognition


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Revenue recognitionWhat is the issue ?

Issue• Miners ship products to customers under a variety of

delivery terms• When should revenue be recognised? • Impact of IFRS 15 on miners


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Revenue recognitionInternational Commercial terms (Incoterms)

A series of pre-defined terms published by the International Chamber of Commerce (ICC), which have been widely adopted as practice internationally

Free on Board

Ex-worksDelivered Duty Paid

Cost Insurance

Freight


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Depreciation


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DepreciationDefinition

Depreciation is a systematic allocation of the depreciable amount of an asset over its useful life

Depreciation

Residual amount

Useful life

Depreciable amount


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DepreciationBasic concepts / key elements

Depreciable amount• Cost of an asset less its residual value• Costs include exploration & evaluation and development costs

Residual value• Estimated amount expected from disposal less disposal costs

Useful life• Period over which asset is expected to be available for use; OR • Number of production units expected to be obtained from the asset


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DepreciationMeasurement methods

Depreciation reflects the expected pattern of consumption of future economic benefits

Straight line method and diminishing balance method are generally used for non-mining assets

UOP method (generally used for mining assets)• Applied to mining assets in each area of interest

separately• Asset life is determined by ‘life of mine’ (LOM)• Formula: WDV * {Production / Proven and probable

reserves}


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DepreciationExample: Units of Production (UOP) method

InformationCost: USD 10,000Accumulated depreciation: USD 4,050 (1 Jan 2009)Residual value: NilProven and probable reserves: 13 million tonnes (1 Jan 2009)Production (2009): 1.5 million tonnes

QuestionWhat is the depreciation for year 2009?

AnswerDepreciable amount: 10,000-4,050 = 5,950Depreciation for 2009: 5,950 x (1.5 / 13) = USD 687


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Impairment


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ImpairmentIndicators of impairment

• Significant fall in sales due to competition

• Adverse changes in commercial environment

• Evidence of obsolescence or physical damage

• Internal reporting indicates decline in economic performance

• Significant deterioration in expected future commodity prices

• Significant increase in expected costs of restoration

• Significant reduction in mineral content of ore reserves

• Serious mine accidents (e.g. underground collapse)

General indicators Mining specific indicators


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ImpairmentCash Generating Units

• Impairment reviews should be carried out at the individual asset level, or if not possible, at the Cash-Generating Unit (CGU) level

• A CGU is the smallest identifiable group of assets that generate cash inflows that are largely independent of the cash inflows from other assets or groups of assets

• Identifying CGUs can be complex !


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ImpairmentBases for performing tests

Higher of an asset’s (or CGU’s)

vs.

‘External value’ ‘Internal value’

Carrying amount Recoverable amount

Fair value less costs to dispose

Binding sale agreement (preferred)OR Assessment of market value

Value in use

Present value of future cash flows from use of the asset by the entity


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ImpairmentMeasuring recoverable amount

Fair value less costs to dispose (FVLCD)

• Can be a discounted cash flow analysis or based on market prices

• Based on market participant’s (external) assumptions

• Post-tax computation

Value in use (VIU)

• Discounted cash flow analysis

• Based on management’s (internal) assumptions

• Pre-tax computation


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ImpairmentOther considerations


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• The Life of Mine model (or “LOM”) will typically be used as a basis for the discounted cash flow. Careful consideration of whether it is appropriate to include resources into the model needs to be made.

• The FVLCD will almost always be higher than the VIU when the LOM has significant capital expansionary expenditure included.

• Likely significant estimates:• Commodity price(s) – including byproducts• Discount rate• Energy costs• Foreign exchange rates

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IFRIC 20


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IFRIC 20: Deferred Stripping costs (in production)

• IFRIC 20 came into effect for 2013 (retrospective to 1 Jan 2012).• Capitalise costs of each phase.• Amortise over all ore that will benefit from the stripping asset.


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IFRIC 20: Stripping costsWorked example – Allocation of costsEntity X had the following cost and extraction information for an identified component of its gold mine:

Direct costs incurred for the stripping activity CU 10,550,000

Directly attributable overhead costs CU 3,450,000

Total CU 14,000,000

How should X allocate the costs incurred between the inventory produced and the stripping activity asset?

Ore extracted in the current year 765 tonnes

Waste extracted in the current year 5,980 tonnes

Total 6,745tonnes

Expected ore to be extracted from component 4,590 tonnes

Expected waste to be extracted from component 28,750 tonnes

Total 33,340 tonnes


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IFRIC 20: Stripping costsWorked example – Allocation of costs

Step 1: Can X identify the costs separately for each of the benefits?

Let us say X has determined that it cannot separately determine the costs because inventory and stripping activity asset are produced simultaneously.

Step 2: Determine a production measure that can be used to allocate costs.

X has determined that they will allocate costs based on the volume of waste extracted compared with expected volume, for a given volume of ore production.

A different production-measure based allocation of costs can be used.

If the mineral content fluctuates significantly or cost of production is a more reliable measure, those basis can be chosen to allocate costs if it gives the most relevant and reliable information.


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Step 3: Determine the additional waste extracted compared to expected volume of waste for the actual volume of ore extracted.

Expected waste per unit of ore produced Expected vol. of waste to be extracted

Expected vol. of ore to be extracted

= 28,750/4,590 = 6.26

Expected vol. of waste for actual vol. of ore

produced =765*6.26 = 4,792

Actual volume of waste extracted = 5,980

Additional waste extracted = 5,980 – 4,791.67 = 1,188


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Step 4: Work out the ratio for allocating costs to the stripping activity asset.

Ratio = Additional volume of waste extracted = _1,188___(Actual volume of waste + ore extracted) (5,980+765)

= 17.62%

The ratios at Step 3 and 4 above have to be computed for a specific component of the ore body and not the mine as a whole.

Step 5: Compute the amount to be allocated to inventory and the stripping activity asset.

Allocation to stripping activity asset = 14,000,000*17.62% = 2,466,800Allocation to inventory = 14,000,000 – 2,466,800 = 11,533,200


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IFRIC 20: Stripping costsSubsequent measurement of stripping activity asset

• Measured consistently with existing asset of which it is a part.

• At cost or revaluation less depreciation/amortisation and impairment.

• Depreciated/amortised over expected useful life of identified component of ore body –generally UOP basis.

• Expected useful life of a component is shorter than that of mine itself – exception when stripping activity provides improved access to whole of remaining ore body - example, at the end of mine’s useful life.

• Impairment determined as per IAS 36. Tested for impairment as part of the relevant CGU and not on standalone basis.


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Other production phase considerations

• Valuation of inventory (IAS 2 – lower of cost and net realisable value)

• Care and maintenance (IAS 36 and IAS 16)


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Closure & rehabilitation phase


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Clo

sure &

reh

ab

ilitatio

n

Closure occurs after mining operations have ceased. This may be required by law, licences or miner’s stated policy / past practice

Key activities include:• Dismantling / removal of infrastructure• Restoration and reclamation of surface land• Removal of underground equipment and residual material


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Key accounting principlesRecognition and measurement of provisions (IAS 37)

Step # 1: Recognition criteria• Present (legal or constructive) obligation as a result of a past

event• Probable the costs will be incurred at a future date• Amount can be reliably estimated

Step # 2: Measurement criteria• Recognise best estimate needed to settle present obligation• May be determined using all possible outcomes and using probability

weightings


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Key accounting principlesRecognition and measurement of provisions

Discounting

• If settlement occurs over a period of time, discount estimate using appropriate discount rate

• Discount rate is the pre-tax rate that reflects current market assessment of time value of money (i.e. benchmark is a government bond with the appropriate maturity)

Varying discount rates are observable in the industry !

Discount rates generally have a significant impact on provision


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Key accounting principlesRecognition and measurement of provisions

Capitalise vs expense

• Obligations from mine development activities are generally capitalised (and depreciated as part of the associated asset)

• Obligations from production activities are generally included in inventory costs

Industry example

• Obligations arising from moving material to waste dumps before the mine enters production are generally capitalised


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Key accounting principlesIllustrative accounting entries

Initial entryDebit ARO asset $ 100Credit ARO liability $ 100

At each period endDebit Interest expense $ 10Credit ARO liability $ 10

Debit Depreciation $ 8Credit ARO asset $ 8

At end of lifeDebit ARO liability $ 200Credit Bank $ 200

Notes

Initial ARO asset = Initial ARO liability

Thereafter:• Liability increases by

“unwinding” at each period end and is settled at the end

• Asset is depreciated


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Close & key messages


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Close - key messages


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Exploration & Evaluation phase• Expense or capitalise? IFRS 6• Resources and reserves• Impairment considerations

Development• Capitalised costs now PP&E• Impairment considerations

Production phase• Transition from development to production is an important cut-off point• Revenue recognition principles and their application• Depreciation methods in practice• Impairment considerations• Accounting for deferred stripping costs

Closure & rehabilitation phase• Recognition of legal or constructive obligation• Measurement of provision

This publication has been prepared for general guidance on matters of interest only, and does not constitute professional advice. You should not act upon the

information contained in this publication without obtaining specific professional advice. No representation or warranty (express or implied) is given as to the

accuracy or completeness of the information contained in this publication, and, to the extent permitted by law, PricewaterhouseCoopers LLP, its members,

employees and agents do not accept or assume any liability, responsibility or duty of care for any consequences of you or anyone else acting, or refraining to act,

in reliance on the information contained in this publication or for any decision based on it.

© 2018 PricewaterhouseCoopers LLP. All rights reserved. In this document, “PwC” refers to PricewaterhouseCoopers LLP (a limited liability partnership in the

United Kingdom) which is a member firm of PricewaterhouseCoopers International Limited, each member firm of which is a separate legal entity.

Thank you

James Thomson [email protected]

Ben Nutbeam [email protected]

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The Mining life cycle - key accounting principles · PwC Course description Accounting for the Mining sector is a specialist area that requires expertise and an understanding of the